Oil prices will affect the global economy more than any other commodity. The dependency on oil prices on inflation has a strong relationship. In theory, this relationship is very clear. If there is an increase in the oil prices, there is a shift in the short run of aggregate supply and this will put upward pressure on the price level. In other words, a sharp rise in the oil prices will cause a significant inflationary shock and this effect will be much greater if the country is (1) a large scale importer of oil (2) and has many industries that use oil as an essential input for production. Researchers suggest that for every $3-4 change in the oil price/barrel will cause a 0. 1% change in inflation. Gasoline is one of the products from crude oil. The rise in the gasoline price is dependent on the rise in the price of crude oil, but not entirely. The graph below shows the parameters on which the price of gasoline depends.
Oil Price raise and inflation from 1970: Figure II shows the price of the barrel along with the CPI data starting from the year 1970 there are three sharp areas where a significant change in the oil prices is seen. In 1973, due to the Ramadan War or 4ht Arab Israel war (Yom Kippur War), the oil prices have raised to 213%. After 5 years prices rose again by 166% largely due to the Iranian revolution. In more recent times, the oil prices raised by 116% in December 2003 when oil traded at $69. 48 a barrel. .figure-III shows the graph of the oil prices and the CPI annual rate from the year 1970 to 2005. Fig-III Source ESI investment, a weekly commentary.
“Oil and Inflation: Then and Now,” SEI Investments, weekly commentary, September 2005.
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